Electoral competition under imperfect information

Summary. This paper considers electoral competition between two office-motivated parties and one voter, in the presence of two alternative policies and under imperfect information. The theory of refinements of Nash equilibrium predicts the outcome of this three-player game: both parties faithfully use their information and try to find the best policy for the voter. We discuss the meaning of this model for Politics and prove that the same result holds for any number of voters, provided that parties are expected plurality maximizers and that voters satisfy a version of the sincere voting assumption adapted to this strategic setting.Received: 12 December 2001, Revised: 16 June 2003JEL Classification Numbers: C72, D72, D82.Correspondence to: Jean-François LaslierThanks to Gabrielle Demange, Françoise Forges, Roger Guesnerie, Jean-Fran çois Mertens, Thomas Palfrey, Sylvain Sorin and other participants in workshops and conferences in Caen, Paris, Caltech and Yale. Thanks also to two anonymous referees and to Paul Heidues and Johan Lagerlöf for their comments. This work was originated when K. Van der Straeten was at THEMA (Université de Cergy-Pontoise) and DELTA.     

Reorganization strategies and securities valuation under asymmetric information

This paper examines optimal reorganization strategies during financial distress and securities valuation under asymmetric information. We model strategic interactions between debtholders and equityholders in a game-theoretic setting that can accommodate the varying bargaining powers of the two claimants. Two reorganization strategies are considered: Chapter 11 (debt–equity swap) and private workout (strategic debt service). Using Chapter 11 as a costly state verification device, we characterize in equilibrium which firms choose Chapter 11 and which choose private workout. In particular, we show how the bank's belief about the type of firm evolves by observation of reorganization strategies. We also derive closed-form solutions to both the equity and debt valuation problems under asymmetric information and show that credit spreads increase with the degrees of asymmetric information.     

Reputation and imperfect information

A common observation in the informal literature of economics (and elsewhere) is that is multistage “games,” players may seek early in the game to acquire a reputation for being “tough” or “benevolent” or something else. But this phenomenon is not observed in some formal game-theoretic analyses of finite games, such as Selten's finitely repeated chain-store game or in the finitely repeated prisoners' dilemma. We reexamine Selten's model, adding to it a “small” amount of imperfect (or incomplete) information about players' payoffs, and we find that this addition is sufficient to give rise to the “reputation effect” that one intuitively expects.     

An experimental test of observational learning under imperfect information

Summary. Nearly all observational learning models assume that individuals can observe all the decisions that have previously been made. In reality, such perfect information is rarely available. To explore the difference between observational learning under perfect and imperfect information, this paper takes an experimental look at a situation in which individuals learn by observing the behavior of their immediate predecessors. Our experimental design uses the procedures of Çelen and Kariv [9] and is based on the theory of Çelen and Kariv [10]. We find that imitation is much less frequent when subjects have imperfect information, even less frequent than the theory predicts. Further, while we find strong evidence that under perfect information a form of generalized Bayesian behavior adequately explains behavior in the laboratory, under imperfect information behavior is not consistent even with this generalization of Bayesian behavior.Received: 29 January 2002, Revised: 12 May 2004, JEL Classification Numbers: C92, D8. Correspondence to: Boaçhan ÇelenWe completed most of this paper when we were both graduate students at New York University. This research was supported by the Center for Experimental Social Sciences (C.E.S.S.) and the C.V. Starr Center for Applied Economics at New York University. We are grateful to Andrew Schotter for his guidance and to an anonymous referee for his comments. We benefited from the expositional suggestions of William Baumol. We also acknowledge helpful discussions of Colin Camerer, Liran Einav, Xavier Gabaix, Douglas Gale, Charles Holt, David Laibson, and Matthew Rabin. We also benefited from suggestions by the participants of the 2002 International ESA Meeting and seminars at several universities.     

Environmental regulation: choice of instruments under imperfect compliance

Compliance is an important issue in environmental regulation. We discuss some of the key elements of the problem and analyze a situation where emissions are not random and firms are risk-neutral. We study the firm’s decision on emissions and compliance when the environmental regulation is based on standards and the enforcement agency audits the firm with a certain probability. We compare total emissions when environmental regulation is based on different instruments: standards, taxes, and tradable permits. We show that when compliance is an issue, environmental taxes are superior to the other instruments, and we analyze the (static) efficiency of the solution. This paper originated from the AEE/REE presidential address for the XXX Simposio de Análisis Económico (Murcia 2005). It builds on the research project on optimal enforcement in environmental problems done in collaboration with David Pérez-Castrillo. I would like to thank David Pérez-Castrillo and Pau Olivella for their useful comments. I gratefully acknowledge the financial support from the Ministerio de Ciencia y Tecnología (BEC2003-01132) and the Generalitat de Catalunya (Barcelona Economics - CREA and 2005SGR-00836).     

The welfare cost of imperfect competition and distortionary taxation

The welfare cost of imperfect competition in the product and labor markets in the United States is quantified in a dynamic general equilibrium model. We find that the welfare cost of imperfect competition in the product market is 3.62 percent while it is 0.58 percent in the labor market, taking the transition path from the distorted to the optimal steady state into account. If we also take into account that the US economy is characterized by distortionary taxation, the welfare cost of the product market distortion increases to 13.51 percent and the labor market distortion to 4.35 percent.     

Optimal risk‐sharing under adverse selection and imperfect risk perception

Abstract.  The present paper thoroughly explores second‐best efficient allocations in an insurance economy with adverse selection. We start with a natural extension of the classical model, assuming less than perfect risk perception. We characterize the constraints on efficient redistribution, and we summarize the incidence of incentives on the economy with the notions of weak and strong adverse selection. Finally, we show in what sense improving risk perception enhances welfare.     

Rationing rule, imperfect information and equilibrium

Summary. The impact of imperfect information on the price setting behaviour of firms is analysed. Specifically, consumers support an information cost to become informed about prices. Firms are endowed with U-shaped average cost curves. If a firm does not supply more than its competitive supply as determined by its marginal cost schedule, then we show that the existence of a pure strategy equilibrium is conditional on the rationing rule employed. If uninformed consumers are served first then the monopoly price is the sole equilibrium whenever consumers' information costs are high enough. Otherwise, a pure strategy equilibrium fails to exist contrary to the results of Salop and Stiglitz (1977) or Braverman (1980) who implicitly suppose that firms supply all the demand at a given price. Received: May 17, 1999; revised version: September 15, 2000     

The suspension of borrowing: an implicit penalty for loan default under imperfect information

A credit seeker may be suspended from borrowing for a period of time due to a previous default. Such suspension is widely used in bank lending through credit check. Our work analyses the effects of suspension on the investment choice of borrowers under uncertainty and on the lending policy of banks facing asymmetric information. We show that suspension should be tightened at low loan rates, but loosened otherwise, to improve the repayment performance of borrowers. We also show that although credit rationing may not be completely removed due to imperfect information, the excess demand for credit or transitive waiting in the market can actually be attenuated by such efficient use of suspension. Our theoretical predictions are consistent with observed cyclical patterns of changes in lendingrates and suspension severity.     

Price normalization under imperfect competition

In general equilibrium models of imperfect competition the equilibria depend on how prices are normalized. This note shows that a price normalization preserves convexity properties if and only if prices are measured in terms of a fixed commodity bundle. I am grateful to an anonymous referee for helpful comments, inspiring a simplification in the proof of the main result, and the argument in the Remark.     

On the quantitative significance of imperfect information

Economic models of markets with imperfect information have increasingly involved high degrees of theoretical sophistication. So far there has been no movement beyond qualitative prediction. This paper attempts to make quantitative assessments of the new features arising from imperfect information following on recent work by Braverman (1980) and Braverman and Dixit (1981). The information structure of these models is based on non-sequential search, where consumers enter the market only once. It is of interest to question under what circumstances single price equilibria will exist under different assumptions about the distribution of search costs. Therefore for particular families of demand, cost and information conditions, the possibilities of competitive, monopolistic and two price equilibria are examined and their relative likelihoods assessed.     

Option valuation with liquidity risk and jumps

This article provides a simple model for pricing and hedging options in the presence of jumps and liquidity costs. In the article, liquidity risk is modelled via a stochastic supply curve function and a jump-diffusion process is approximated by a Markov chain. Local risk minimization incorporating liquidity risk is proposed to price and hedge European options in this discrete-time model. Moreover, an example is provided to implement the modified risk minimization method and to demonstrate the performance of hedging strategies.     

Innovation and imitation under imperfect patent protection

The paper develops a model in which the spillover of R&D is a consequence of a rational investment in imitation. The model incorporates the innovator's choice between patenting and secrecy as a protection device. The analysis demonstrates that an increase in patent breadth always discourages resorting to secrecy, whereas the influence of increased patent life is the opposite with large spillovers. An increase in patent life can also reduce innovative activity with large spillovers. Under endogenous imitation, short patents are socially optimal.     

Calculating the welfare costs of import restrictions in the imperfect substitutes model

This paper supplies equations for partial-equilibrium calculations of the welfare effects of tariffs and quotas when the imported good and the competing domestic good are imperfect substitutes in demand. The equations take into account the response of the price of the domestic substitute. Although other studies have acknowledged this response, they have failed to account for it in their welfare calculations. To demonstrate the importance of this response, it is shown how it affects the calculations for the welfare costs of tariffs and quotas on US imports of footwear. It is shown that ignoring the response of domestic prices leads to significant overstatement of the welfare costs of tariffs and significant understatement of the welfare costs of quotas for the industry.     

Supply risk management under imperfect competition — Empirical applications to the Swedish pulp and paper industry

The authors acknowledge research support from the Non-Industrial Private Forest Owner's Fund for Forest Research, and statistical guidance from Professor Bo Ranneby.     

A note on parental and child risk valuation

The paper develops a model that allows the estimation of parent’s valuation of own and child health, in an endogenous risk framework, where parents can employ multiple activities to protect themselves and their children from a health risk. These risk-reducing activities may differ in their effectiveness and their intensity of use. We suggest how to estimate the parent’s ex ante marginal willingness-to-pay for a reduction in the ambient level of health risk, unencumbered by expected utility terms.

The effects of information on strategic investment and welfare

Summary. The paper analyses the influence of uncertainty and competition on the strategic considerations of a firm’s investment decision, where the firm receives imperfect signals about the profitability of an investment project. We find a preemptive or an attrition equilibrium depending on a trade-off between first and second mover advantages. We show that welfare can be negatively affected by decreasing uncertainty, i.e. more and/or better information. Furthermore, simulations indicate that duopoly leads to higher welfare than monopoly if there are few and relatively non-informative signals, whereas the opposite holds if there are many and relatively informative signals.Received: 13 May 2004, Revised: 22 March 2005, JEL Classification Numbers: C61, D43, D81.Jacco J. J. Thijssen: Correspondence toDolf Talman is acknowledged for many inspiring discussions and meticulous proof-reading. Jan Boone, Thomas Sparla, participants in the workshop on “Recent Topics in Real Options Valuation”, July 2002, Krems, Austria, and an anonymous referee are thanked for helpful comments. The usual disclaimer applies.     

Environmental policy and long-term welfare in a tourism economy

A dynamic general equilibrium model of a small open economy specialized in producing tourism services is presented. The tourism package is a bundle of attributes provided by firms, the government and the natural environment. Investment in accommodation increases the number of visitors but also congests public goods and reduces environmental quality. The model is used to determine the conditions for the existence of a long-term double dividend. These conditions depend on both the initial level of environmental quality and the responsiveness of the tourism price to marginal changes in environmental and accommodation quality and congestion of public goods. Support from the Balearic Islands Government (PRIB-2004-10142) and helpful comments from anonymous referees are gratefully thanked.